June 27, 2005

Tobacco quota holders must act quickly to defer taxes

North Carolinians who own tobacco quota and are due to receive tobacco buyout payments may defer payment of taxes they'll owe on their buyout payments by exchanging the payments for property, according to a North Carolina Cooperative Extension tax expert.

But buyout recipients who wish to take advantage of this opportunity must act quickly, said Guido van der Hoeven, a Cooperative Extension specialist in the College of Agriculture and Life Sciences at N.C .State University.

The Internal Revenue Service allows tobacco quota holders who receive buyout payments to take advantage of what are called like-kind exchanges, said van der Hoeven. A quota holder may exchange the buyout payment he or she is due to receive for commercial or investment real property. Examples of eligible property include farmland, timber land, rental real estate or an interest in a Real Estate Investment Trust, or REIT, where the REIT issues a common tenancy deed for the investment.

Van der Hoeven explained that a quota holder who enters into a like-kind exchange will be able to defer the taxes they would otherwise have to pay on the buyout payments. Quota holders must pay capital gains taxes on the money they receive for their quota.

Beginning this year, the tobacco buyout will pay approximately $3.9 billion to roughly 75,000 North Carolina tobacco quota holders and growers. Buyout payments will be made in equal annual installments over a 10-year period. The money will come to tobacco growers and tobacco quota owners as the tobacco price support system that dates to the depression comes to an end.

Tobacco growers will receive $3 per pound of quota grown, while quota owners will receive $7 per pound of quota owned. Quota is sometimes described as a license to grow tobacco.

Only quota owners are eligible to enter into like-kind exchanges. Van der Hoeven said a recent IRS notice sets what is called the transfer date for flue-cured tobacco quota. The transfer date is the earlier of either June 30, 2005 or when the U.S. Department of Agriculture, which is distributing buyout payments, accepts a contract to buy out the quota owned by a taxpayer. Similarly, all other tobacco quota holders have a transfer date of the earlier of Sept. 30, 2005 or when USDA accepts a contract to buy out quota from the taxpayer.

The transfer date is important, said van der Hoeven. He explained that the IRS spells out financial and logistical steps that must be taken within specified time frames if a buyout recipient is to enter into a like-kind exchange successfully. These steps must be taken within time frames that begin with the transfer date.

The funds received for the tobacco quota holding taxpayer must not be constructively received by the taxpayer. Funds from the buyout must go to a qualified intermediary and held for the purpose of the like-kind exchange. (Assignment of funds to the qualified intermediary can be made using the CCC-95 form. This form should be executed and filed with the Farm Service Administration as soon as possible to prevent actual or constructive receipt of the first buyout payment.)

Replacement property must be identified within 45 days of the transfer date. This information must be given to a qualified intermediary in writing. The exchange property (tobacco quota) is given up for the new identified property (commercial or investment real estate). Using June 30 as the transfer date for a flue-cured quota owner, the replacement property must be identified by Aug. 14, 2005.

The completion or closing of the property must occur within 180 days of the transfer date. Again, using June 30 as the transfer date, the taxpayer must, through a qualified intermediary, close on the replacement property by Dec. 28, 2005.

If these crucial steps are not followed, the like-kind exchange fails, and taxpayers must pay tax on their gains. Van der Hoeven said taxpayers, especially flue-cured quota holders, must act quickly if they want to defer the tax consequence through the use of a like-kind exchange.

Van der Hoeven stressed that like-kind exchanges are not do-it-yourself transactions. He strongly recommended that quota holders who wish to take advantage of a like-kind exchange contact a financial professional for help with the transaction.

Further guidance on like-king exchanges is expected in Internal Revenue Service Bulletin 2005-27, to be issued July 5.